Hey, Kids! Design Your Own Tax System!

You’ve probably learned by now, at least if you’ve been following me for any length of time, but I am a huge geek. One of my weaknesses is a fondness for creating spreadsheets to help visualize my thoughts. Sometimes, I even go a bit overboard, losing track of time as I work (no really, it’s happened before, and I dare say, it will happen again).

Luckily for you (and for the sake of this post), some of the spreadsheets I create are pretty useful for people other than me. Recently, I whiled away the wee hours of the night on a few of my days off by setting up a system to compare various tax systems and the best part is, you can try, too! Inspired by this article about a flat tax on the Financial Samurai as well as My Life ROI’s impassioned arguments against it, I created a tax system simulator, designed to enable all the other financial geeks out there to try their hands at rectifying the United States’ tax problems. The program has been uploaded onto Google, here.

Getting Oriented

Alright, there’s quite a lot here, so it might seem a bit much at first, but let’s take a tour of it, together. The top parts (those that aren’t enclosed in a box) are just raw calculations needed to feed into the final results (those things shown in the boxes). I don’t think that Google allows you to view the formulas I used, which is a bit of a shame, but you could possibly work out the logic I followed for my calculations. The real meat of this table is below, set up in the boxes:

In these tables, the italicized figures are the ones I played around with (and encourage others to do the same), while the non-italicized boxes should stay the way they are, seeing as they are either calculations based on the italicized figures or metrics that won’t change due to changes in the tax system (in the short run). Most of the big table should be self-explanatory; the groups of tax payers with their average income (as noted by My Life ROI), the taxes paid (as individuals and as a whole) and their taxes represented as a portion of their income and as a portion of the overall government budget. On the right, there are the current tax brackets of the US tax code, and the percentage of income to paid with each one. Below, on the right, there’s the total income taken in, the budget of the United States, and the surplus or deficit that results.

This chart, as currently set up, shows what we could expect to collect in tax revenue if (a) the income tax was the only tax system used by the Federal Government, (b) there were no deductions of any kind, (c) the tax brackets themselves remained the same, and (d) the number of taxpayers remained the same. It’s fairly progressive (the lowest income tax payers pay out 12% of their income, the highest ones pay out 33%), but alas, the deficit (with spending at the level of the actual budget next year; you don’t think I came up with $3.6 billion out of my hat, did you) is nearly one third of the overall budget. Of course, you don’t have to keep all those assumptions (and what would be the fun if you did?) By finagling these values, you can see how making changes to the tax system can affect how much is paid in taxes, by whom, and the effect on the overall budget. Let’s consider a few shifts in tax policy, and the effects on what you pay, and what the government takes in…

Other Possible Tax Plans

Tax Revenue - $10,000 deduction

A relatively small change to start us out; simply adding a flat deductible for everyone, and suddenly the system becomes much more progressive. The lowest tax bracket earner is now only paying 2% each year for taxes, while the top 1% earner is still paying 33% (albeit, a slightly smaller 33%). On the negative side, the budget deficit has now increased by $229 billion dollars, so this is far from perfect, as well. Let’s consider the flat tax to see what that looks like:

Tax Revenue - Flat Tax

Well, good news, bad news time, flat tax proponents. The good news is, the flat tax IS in fact progressive, so long as there is a healthy (flat) deduction to go with it. The bad news is (a) the lowest tax bracket earners are paying more than under the previous method (which was essentially the current graduated system, with few deductions and other loopholes) and (b) our deficit is much greater than either of our two previously mentioned systems. So, there are a few kinks to be worked out (at least, if you’re trying to sway me to your cause). Speaking of me, let’s see how my tax plan looks under the microscope:

Tax Revenue - My System

Well, there are some things to recommend it: the deficit is the lowest as we’ve seen under any of these plans, and it’s still pretty progressive. On the other hand, near the top of the income distribution, it starts to take a significantly larger chunk than any of the other plans so far. Personally, I’m not too bothered by that, but that’s my own personal view. Just to show you how a tax system could try to balance the budget at all costs, here’s my system, modified to actually show a surplus:

Tax Revenue - Balanced Budget

I’ll be honest: I thought it was going to have to be more punishing than this in order to actually balance the budget. Don’t get me wrong: it has the highest taxes for everyone of any of the systems we covered so far (with the exception of my default plan, the current set of tax brackets with no deductions, but that was more a matter of convenience than a real plan). The deduction is lower, the tax rates are higher, and the tax brackets are much closer together (meaning you reach the highest tax bracket with much less income). Still, as changes to reaching a balanced budget are concerned, it’s one method that doesn’t involve turning down requests for money from old persons, the army, and the sick (to say nothing of old, sick Army veterans).

A few final notes before I leave you to play with my little tables. First, it’s obviously just a table for income tax; if you want to figure out how the tax rates would compare between these systems and say, a sales tax system, it can’t really help you. Second, it’s obviously greatly simplified. Given the wealth of different tax deductions available, to say nothing of different tax rates for different types of income (capital gains vs. earned income, for example) designing a truly representative spreadsheet is a bit beyond my time and talents. That said, hopefully this will be amusing, and dare I say, helpful. Enjoy!

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Well, thank you FS. Sometimes, I come up with something that’s pretty useful, and now that I have a blog, I figured, why not share it? Feel free to make any comments, critiques, or complaints once you’ve had the time to play around with it.

Pery, it seems that since I’ve last worked with this spreadsheet myself, some of the equations and other factors have been changed. I’ll have to go back and redo it, and see if I can’t find some method to lock some of the boxes (those that do control calculations and similar things that people shouldn’t be messing with) while still making it possible to do things like shift tax rates and tax brackets to play around with the tax system.